3 Reasons to Buy This Refiner

Piyush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The general thesis is that, with the rising price of crude, oil refiners stand to benefit. However, one should also know that oil refiners benefit with the low cost of natural gas, as it is used as a fuel to refine crude oil. Thanks to hydraulic fracturing and horizontal drilling, natural gas production took off. The oversupply led to a crash in natural gas prices, which is beneficial to oil refiners like Valero (NYSE: VLO), Occidental Petroleum (NYSE: OXY), and Holly Frontier (NYSE: HFC).

Owing to super storm Sandy, the US witnessed a fall in its monthly industrial output. With China’s industrial output growing by 9.6% year over year in October and the looming Middle East tensions, analysts expect an upswing in the price of crude oil.

Rising Outputs

Bullish on the long term prospects of crude, Occidental Petroleum ramped up its quarterly crude production by 4%, but its quarterly profits shrank by 22%, thanks to rising costs and lower margins. Valero’s quarterly gross margin of $10.63 per barrel of crude rose by 38% on a sequential basis, but the quarterly operating income declined to $1.3 billion from $2 billion year over year, owing to hurricane Isaac. Also due to the one-time charges incurred by Valero owing to the shutdown of its Aruba refinery, its net profits slid by 44%, which still beat the Street’s estimates. Holly Frontier Corporation reported a 19% climb in its quarterly GAAP EPS, which beat the Street’s estimates as well.

But Why Valero?

The shares of Occidental Petroleum have been falling constantly since mid-September and YTD the shares are down 23%. Now it’s always advisable to wait for a positive trigger before buying a falling stock. Holly Frontier, on the other hand, is up 68% YTD, but its high PEG of 4.7x and P/B of 1.5x calls for caution.

Company

P/B

P/FCF

P/S

Valero Energy

0.94x

10.62x

0.12x

Occidental Petroleum

1.50x

14.22x

2.48x

Holly Frontier Corporation

1.48x

-NA-

0.43x

From the table above, it’s easy to conclude why I have picked up Valero.

Growth Prospects

With the expansion of its Port Arthur plant from 85,000bpd to 95,000bpd, the company expects full rates in Q4. Also the Coker at its refinery in Martinez was recently restarted, and the maintenance work at St. Charles is expected to complete by the second quarter of 2013. The McKee refinery was also restarted with a capacity of 170,000 bpd. With these events, it’s safe to expect a jump in the company’s overall production in the coming year. Also, Valero would now be able to take full advantage of the rising crude prices.

Value Unlocked

The management at Valero recently announced that it would be exiting its retail segment, in order to unlock shareholder value. The quarterly operating income from its retail segment stood at $41 million appears timid when compared to Valero’s total operating income of $1.3 billion. The management said that it would be auctioning its nearly 1,800 retail locations in US and Canada, which is expected to raise around $3.5 billion.

Conclusion

In my opinion, crude is heading north, and with low natural gas prices, oil refiners offer great growth potential. Though the mentioned companies reported better than estimated financial results, Valero appears to have a lot of room to grow as the spinoff of its retail arm and completion of its maintenance projects offer significant upside in the stock’s price.


PiyushArora has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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